Global bond yields have climbed back to the highest level in almost two decades as rising oil prices stoked inflation concerns and investors ramped up expectations for interest-rate hikes. We offer some observations below.
Regarding recent moves, the rate on 10-year Japanese government notes touched 3% for the first time since 1996, UK 30-year yields reached the highest since 1998, and the 10-year Treasury rate hit levels last seen January last year. Financial markets are pricing in a higher path for short-term rates as well. Fed funds futures contracts currently reflect a 66% probability the Fed hikes rates by a quarter-point at its meeting this month.
Global bonds have been under pressure for months, with worries over elevated government spending in markets like Japan, the UK and the US prompting investors to seek higher compensation to own longer-maturity debt. At the same time, a surge in borrowing by US technology firms to fund artificial intelligence is potentially crowding out demand for sovereign bonds.
Acknowledging the above risks, we think the bond market is largely renormalizing after two decades of abnormally low interest rates following the great financial crisis. For example, at 4.8%, the current 10-year US Treasury yield is roughly in line with its average over the past four decades.
- From 2008 to 2020, the world suffered from anemic growth, persistent disinflation, deflationary threats, deleveraging, and zero-interest-rate policies (ZIRP). That was an abnormal period.
- Today’s rise in yields reflects a return toward a more “normal” economy—one with stronger nominal growth, an end to deleveraging, buoyant AI investment, and resilient consumers. Importantly, all major central banks have ended their ZIRP, a key factor suppressing long bond yields globally.
In terms of portfolio implications, higher bond yields could lead to lower equity multiples, especially in growth names. We continue to recommend an underweight position in US large cap stocks, given concentration risk and stretched valuations.
- Higher starting yields suggest improved future returns for fixed income investors. We recommend being fully invested in high-quality bonds with a tilt towards shorter duration.
- We also maintain an overweight position in real assets, such as commodities and natural resources stocks, that can offer a potential hedge against inflation. The asset class should also continue to benefit from the global AI infrastructure build out.
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